#1 Don't Trade Stupid.

While it sounds like a logical statement, this is THE primary reason that traders/speculators/investors fail. How many times have you watched someone place a trade with no plan whatsoever, and then they are legitimately shocked when it doesn't profit for them? Here's a perfect example:

An acquaintance had bought 800 shares in a local company at $13/share. The reason for buying? They were a local company and the company is in the computer industry. Because they were local (a little hometown pride) he thought that they would move to $15/share within a couple of months. I talked to him six months later. "So, how'd your company do?" "They went down to $8 (per share)." "So you sold at $12, right?" "Well, no. I still have them all. I'm waiting for it go back up to $10 and then I'll sell." "If you're going to sell them at $10 anyway, why don't you write a covered call (option) for $10 and get some additional money while you wait?" "I'll think about it." Guess what. He never wrote the covered call. He didn't sell when it hit $10 (per share). In fact, he didn't sell the shares until they had hit $10 three times over the next three years. After holding on to his position for over 3 years, he finally was able to sell them at the $15 per share he originally wanted. He really couldn't understand why they didn't hit $15 right after he bought them. The reality? He had no signal to buy them. The only reason he had for buying the shares was that he knew who they were (the company). No financials were involved. No technicals. Nothing. Since there was no real reason to get in, there was also no reason to get out. Let's face it. There are thousands of ways to make money in the markets, and he chose none of them. (Every once in a while I bring it up with him in hopes that he won't do something like that again. Guess what. He did do it again. Some people never learn.)

If you don't have a set plan, a strategy, then you WILL lose money. A good strategy includes three basic principles:

1. Where do I get in?
2. Where do I get out when I'm winning?
3. Where go I get out when I'm losing?

Answer these questions and your trading plan will be better than 95% of the people in the market.

#2 The first thing you learn isn't always the correct thing.

As children, we would often argue with others over who was right and who was wrong. We would learn a 'fact' from our father and we would defend that fact as hard as we could. It didn't matter if it was really true or false, daddy said that it's true. His reputation was at stake, and if he said that it's true then it is. End of story.

We still believe many of those so-called 'truths' that daddy told us. We still argue with people over some little piece of information that daddy told us when we were five (not realizing that when we were five, daddy was much younger than we are now). To us it is a truth that stays with us, no matter how wrong it is or how much it hurts us.

This happens to almost everyone in trading. The first thing we learn (technique, tool, indicator, system, etc.) we accept as gospel. Whoever taught it to us obviously knew more than we did (at the time), so it must be the best way to trade.

This happened to another associate of mine. He had learned a particular gap trading technique from the first book he read on trading. Since then, he had read 40 - 50 different books on trading. I personally had spent almost 20 hours teaching him minute details about futures trading, trend identification, indicator usage, etc. When it came down to making the first trade, his plan was to go with the trend, follow an entry signal, and do everything right. The market gapped open. In a split-second he changed everything and placed a trade with the original gap strategy. The trend was very strong against him. He had entry signals in the opposite direction of the gap. Everything pointed to him taking a long position. He shorted it. He lost almost $1,000 within the first two hours, and then finally exited. Had he stayed, he would have lost much more. After reprimanding him for the change in action, he said that he would never do it again. His next three trades were the same gap system. Those three trades lost money each time. He came to the conclusion that the markets were not for him and he hasn't traded since.

Am I saying that gap-trading strategies are wrong? Not at all. But some are definitely wrong (as with all types of strategies). He had learned a bad one as the first thing he ever learned about trading. Rather than accept the fact that it was an incorrect strategy, he was determined to make it work (just like he was defending a little piece of information that his father told him when he was five). Even after getting pounded every time and having been taught much better information by more experienced people. He refused to let it go.

You may want to look at the strategy that you're using (or planning to use). Was it one of the first ones you learned, or was it developed over time to fit your style and personality? Is it profitable because the author/creator says it is, or because you consistently make money yourself? Some things are worth re-evaluating.

#3 Learn from your mistakes.

The above story may sound like an isolated incident, but it happens every day. Do you learn from your mistakes? Self-evaluation and examination are very difficult, but required. EVERYONE MAKES MISTAKES IN TRADING. There is no way around it. We try something new. We try something old. This is part of the learning process and is required. What isn't required is doing the same mistake over and over again because "this time it will work out for me, really."

The best way to correct this type of behavior is to record it and review it. Make a notebook that you record every trading mistake you make. Review it each week and see how many mistakes you have duplicated (each week). The more duplications, the greater the problem and the more you should focus on it. However, be careful about what is a mistake, and what is not a mistake.

While it is easy to do everything right and still lose on a trade, it is just as easy to do everything wrong and still make a profit. Just because you got lucky doesn't mean that it isn't a mistake. Ignoring a mistake because you made a profit once is the best way to develop bad trading habits that will lose you money in the long run. Remember, even if you win some by playing a slot machine, the odds are against you, and the longer you play the more you will lose.

#4 What works for one person will not work for everyone.

This is the main reason why people who follow market gurus lose money. Many (in fact most) known market experts have very valid trading systems. Ken Roberts (for futures) is a great example. Here is a trading philosophy that has its roots in the heart of technical analysis. Some people make money with it, but many people do not. The philosophies within it are very valid and profitable. So why do so many people lose money using it? Because while it's a good strategy, it's not a good strategy for them. They don't visualize the markets the same way; they have different experiences, have learned different things (like what daddy told them), different tolerance and comfort levels, etc. (I personally cannot trade the Ken Roberts philosophies, but I have enough of a background to know that they can work, just that my psychology won't let me trade it profitably.)

If you try using a strategy that isn't working, accept that the strategy may be valid, but is not for you. You may need to research a large number of strategies to find one that works for you. Paper trading, while not real, is a good way to see if a strategy will work for you. You will notice that some strategies will feel more comfortable to you, even on paper. If you're not comfortable with it, you won't trade it right. Don't give up trading, just accept that a particular strategy won't work for you and move on.

#5 Keep an open mind about your trading strategies.

On the opposite side of the coin, there is more than one type of strategy that will work for each person. The age-old rule of "work with what you have" applies here. Few things are more stressful and frustrating than finding that the strategy you've chosen will be problematic based upon lack of resources. You ALWAYS have options, and most people haven't realized that they can use them. A great example is the person who has a strategy that requires that he have a stock's raw non-split adjusted data. His particular data provider doesn't have non-split adjusted data. He has three options:

1. Get mad. Swear and complain to the data provider that they are hampering his trading style. Tell them that he is losing money because they don't have what he wants. Talk to higher-ups in the company and get even angrier when they tell him that there is nothing that they can do about it (because there probably isn't). Ultimately defame the company and maybe even threaten a lawsuit or two (if he's really upset).

2. Look for a data provider that provides the non-split adjusted data, possibly for an exorbitant price.

3. Change to one of the thousands of profitable strategies that doesn't rely on non-split adjusted data.

Most traders opt for the first choice. The last choice never even occurs to them, but is often the most realistic. Many traders have learned to trade end-of-day successfully because they couldn't afford a real-time or delayed quote set-up. Many delayed quote traders have learned to successfully trade with intraday strategies because they weren't in a position to see the 'real' entry of a real-time set-up. Many investors have moved to technical analysis because they couldn't get fundamental information in a timely fashion. There are always options, and profitable ones at that. Flexibility can be one of your greatest assets as a trader.

#6 Trade with enough money to handle the losses AND commissions. Losses WILL happen and commissions are real.

Another failing trait is not having an account that can handle the losses that occur. Many people say that if you have a winning strategy, you can do nothing but make money. You can have an excellent strategy and still lose money if the account can't handle it.

Here's an example. I had a stock trading strategy that worked out to be consistently profitable in design (and technically in practice). It required that I buy stocks that were around $30 - $40 per share. With a stock in that price range, out of 10 trades four of them would give me a $1 per share gain, and six of them would give me a $.50 loss. Out of ten trades I would consistently have a $1 per share profit. Well, it didn't work out that way. I only had an account of $2,000 at the time. Trading on margin, I could only afford 100 shares of a stock between $30 - $40 in price. Commission to enter was $23, and commission to exit was also $23. This ended up costing $.46 per share for a round trip in and out. That changed the numbers considerably. My $1 success was now only a $.54 success after commissions. My $.50 losses were now $.96 losses. Out of 10 trades my gains amounted to $2.16 and my losses amounted to $5.76, totaling a loss of $3.16 after every 10 trades. AND THIS WAS TECHNICALLY A WINNING SYSTEM. Had the account been ten times that amount, the commissions would have been brought down to approximately $.05 per share round trip, and the system would have been profitable. The account size killed it. (So we moved on to another system that works with the account size that we do have.)

The same rule holds for losses. A $2,000 account can handle fewer losses than a $10,000 account can. With only $2,000, a few losses in a row can wipe you out. If you start out with $10,000, then $2,000 in losses only reduces your account by 20%, not 100%. $8,000 may leave a lot of room for trading, while zero left over from a $2,000 account will leave you out in the cold. If your account can't handle the losses, then start out with a larger account, or change your trading strategy.

#7 Don't commit to a new system until after you've tested it.

This scenario happens all too often. Someone has been trading a system successfully and they're making a decent living. Suddenly, they get a new idea or hear about a new system. It sounds great and they paper trade it to see how well it will do. It does well on paper and then they drop their old successful system for the new system, committing all of their capital to the new system just to watch it all go away.

This problem occurs with too many traders, and could always be avoided with one simple concept: TEST IT ON YOURSELF FIRST. Just because it looks great on paper, doesn't mean that you will be able to trade it properly (as in rule #4), even if you designed it yourself. There are always hidden variables that tend to get overlooked - the new system didn't account for slippage, it has more drawdown than you expected, etc.

Rather than committing to it wholeheartedly, try working with only 10 to 20 percent of your account (preferably 10%). As it proves to be successful, slowly make a transition in 10 to 20 percent increments. This way you can adapt to the new system instead of just throwing a new set of variables into your life without getting used to a new style.

#8 There's ALWAYS another trade around the corner.

While this usually happens with beginning traders, experienced traders still fall prey to the up-and-coming opportunity. People see an opportunity and tell themselves that if they don't get on the bandwagon now then they will miss 'The Big One' that they can retire on. They see that gas prices are extremely low, and if they don't buy gas futures now then they will lose out on all that money that they could make. They see the new Millenium opportunities and think that they have to sell the farm to get all of the profits just lying there. Many traders believe (and act upon the belief) that if they don't trade an opportunity at full force, then there will never be anything like this ever again (after all, they won't live to see another Millenium).

All of these are legitimate opportunities, but there are ALWAYS opportunities. Just because you see a great opportunity to take advantage of doesn't mean that you should 'risk the whole wad' or trade sloppy. These opportunities can help you decide what to be trading in, but you still need to follow sound trading practices. The rules don't change just because something looks like a great deal.

Conclusion

While no actual trading strategies are discussed within these eight rules, the rules themselves will often determine a successful trader or a failing trader. They can also make the difference between trading stressed-out or trading stress free. Use them for your own success, or ignore them at your own expense. It's always up to you.